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European pension funds plan to withdraw more money from stock markets to avoid rising volatility and almost 70 percent of firms with exposure to peripheral euro sovereign bonds plan even more reductions, a poll by consultant Mercer showed on Monday.

The annual survey of more than 1,200 defined-benefit pension funds across continental Europe, Britain and Ireland showed a growing diversification away from equity into a more varied mix of alternative assets, including hedge funds, private equity, emerging market debt, commodities and infrastructure.

With core government bond yields at historically low levels, the survey showed that the funds - who manage 650 billion euros of assets across 13 European countries - are seeking to retain some level of overall return while cutting back on equity but simultaneously retaining trigger-like structures to boost bond holdings if necessary.

"As the Eurozone crisis continues unabated, pension funds are faced with the dual challenge of managing portfolio risk brought on by market volatility, while at the same time identifying opportunities that will generate returns to support future liabilities," said Nick Sykes, European Director of Consulting at Mercer's investments arm.

"In their quest to control volatility without sacrificing long-term returns investors have turned their attention to alternative asset classes."

Mercer said of the large number of firms in the survey who still had exposure to the government bond markets of Greece, Ireland, Italy, Spain and Portugal only one in five said there would be no change in their holdings over the next 12 months and 70.5 percent planned to cut.

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The poll, which was conducted during the first quarter of the year, breaks down responses with reference to the plan size and country and showed a steady reduction in equity over the past three years on several measures.

For the largest pension plans, those in excess of 2.5 billion euros, the 2012 strategic allocation to equity was 24 percent, down from 27 percent last year and 38 percent in 2010. Domestic equity suffered most, falling to as low as 6 percent from 15 percent in 2010.

What's more, some 33.2 percent of firms expect to cut holdings of domestic equity over the next 12 months while 21.4 percent expect to cut exposure to foreign equity markets.

Holdings of investment alternatives to the mainstream of equity, government bonds, corporate bonds and property rose in tandem to 15 percent compared to 9 percent in 2010.

And 22.7 percent of firms said they expected to increase holdings of these alternative investments over the coming year, slightly larger than the 22.3 percent that expected to up inflation-linked government bonds.

The most popular alternatives were diversified growth funds, high yield and emerging market debt.

This article is copyrighted by Reuters